The G20 summit pledged to slash deficits by half within three years --
despite strong protest from President Obama who stated that austerity
could abruptly stop the global recovery. His plea to spend more now and
cut deficits later didn't get a good response from world leaders and the
signals back home weren't any better. Congress couldn't pass a new
stimulus plan.
The levels of fiscal deficits are unsustainable and threaten to bring
many countries, including the U.S., to the desperate situation.
Governments now account for over half the global economy, rising to 70
percent in some countries. According to the Europeans, one can improve
consumer demand just by cutting taxes and bringing this Leviathan down.
Adieu deficit spending. Deficit reduction takes its place - at least in
Europe.
Paul Krugman called the G20 meeting "deeply discouraging" and stated
that austerity measures will trigger a depression. However, the
president of the European central bank stated that "the idea that
austerity measures could trigger stagnation is incorrect."
According to the Europeans, the economies which had cut government
spending boomed. Those which had increased government spending did not
succeed. Europeans argue that the tax and spending cuts has been a
better tool for stimulating the economy than big government spending.
FIGHTING RECESSION
Meanwhile, the U.S. government has been fighting recession with bigger
government spending. It propelled massive stimulus, roughly four percent
of the GDP, to the economy in 2009-2010, and that stimulus is now
beginning to fade. Today, after a 17-month of stimulus spending,
observers are shocked by the weakness of the job market. A stimulus of
four percent of GDP should bring at least four percent GDP growth. But
the reports indicate that it may produce only three percent growth. Our
economy might be in fact shrinking. Clearly, things have not gone as
expected.
The Obama team claims that the treatment didn't fail. The patient was
much sicker than they had thought. It wasn't a sufficient dose and not
that they prescribed the wrong medicine. They insist that another
stimulus is needed.
The government follows the textbook which shows that the so-called
"government multiplier" can produce $1.57 for every dollar spent. The
"multiplier" effect could be also achieved through tax cuts. But
according to the textbook, the "tax-cut multiplier" would only be $0.99.
It seems, thus, that it is better to increase spending than to cut
taxes.
DO NOT AGREE
The Europeans do not agree. They believe that the "tax multiplier" is
larger than the "spending multiplier." They call the Obama team's
conclusion into question and advocate fiscal restraint.
The government can spend money fast and such spending multiplies money.
And government is trying to double its money fast. But economics is a
dismal science. We should constantly test theoretical assumptions. For
example the "spending model" shows that the time factor is extremely
important. The money must be spent productively and very quickly.
Everybody knows that government can spend money quickly, but can
government spend money quickly and efficiently at the same time?
In reality government projects, even at the municipal level, are
time-consuming. These projects may not produce more disposable income or
new indispensible product. The money is simply gone. In fact, the
municipal infrastructure projects often become cost centers and cause
bigger tax burden and indebtedness. They are often based on free
government grants. It means that government could be financing ventures
which are of dubious profitability; they are too costly to stand on
their own. This might be a reason why government spending could not cure
the patient. Cutting taxes across the board (perhaps with the exception
of the top one percent earners) might be a better tool.
The U.S. Government has been working under great pressure. The
underlying forces which caused this crisis are still at work and have
not been addressed. The economic theory is unclear. The political
reality and voter attitudes must be taken into consideration.
The politicians want to prevent possibility of a depression at any cost.
They thus want a fast and massive government job creation program,
nationalization of consumer and mortgage markets, government controlled
banking system, higher taxes, a long term redistribution of income,
bigger healthcare and retirement programs. And this means more money
printing.
Ben Bernanke had already warned that the U.S. federal budget is "on an
unsustainable path." Somebody compared politicians with the passengers
on the train which is heading for a crash. It is accelerating so
rapidly, they're scared to jump off.
Perhaps the U.S. Government should change the direction: slow down the
fiscal train and cut taxes. The same could be said about state and local
governments. The recent G20 summit has concluded that it must be done.
Trees that are slow to grow bear the best fruit.
Matthew Jarosinski lives in Waitsfield.
